Proposed Conglomerate Would Still Have Gaps

By SALLIE HOFMEISTER

Dec. 18, 2001 12 AM PT

TIMES STAFF WRITER

The merger of the entertainment businesses of Vivendi Universal and USA Networks Inc. would create a world-class media conglomerate with theme parks, cable channels, and TV and film production. But the new company, Vivendi Universal Entertainment, would have major gaps in its U.S. holdings that could be expensive and difficult to fill.

Vivendi Universal Entertainment has the USA and Sci Fi cable channels but doesn’t have the clout in cable programming of AOL Time Warner (with HBO and CNN), Viacom (Showtime and MTV) or Walt Disney Co. (ESPN). It also lacks the network TV broadcast backbone enjoyed by Viacom, Disney and News Corp., which own CBS, ABC and Fox, respectively.

The new company also is coming to the consolidation frenzy after many of the biggest cable and TV broadcast prizes have been picked off. Prices of the few surviving independents are at record highs. And a proliferation of channels is pressuring margins across the TV business.

“Are they stronger combined? Absolutely,” said Larry Gerbrandt, chief content officer at Kagan World Media, a market research group in Carmel. But he said Vivendi Universal must get bigger before it can be an even match for AOL Time Warner or Viacom. “And at the moment, television economics are eroding.”

Yet Barry Diller, the USA chief who would run the new entertainment company as chief executive and chairman, dismissed skepticism. “You don’t get the throw weight of AOL or Viacom, but you absolutely get critical mass,” he said in an interview Monday. “And Jean-Marie Messier is younger than all of them and that is no small statement.”

Diller, in his characteristically confrontational style, was taking a backhanded swipe at the graying heads of Vivendi’s main rivals, Viacom’s 78-year-old chief, Sumner Redstone, and Rupert Murdoch, News Corp.’s 70-year-old chairman. In contrast, Vivendi chief Messier is about to turn 45. Messier has overhauled the Paris-based water treatment and entertainment conglomerate since the mid-’90s.

Both Diller and Messier indicated Monday that back-to-back deals with satellite-TV provider EchoStar Communications Corp. and USA Networks would help fill the new company’s television distribution holes in the U.S.

The deal with USA would reunite two established cable channels--USA and Sci Fi--with Universal Studios’ television and film production operations to create an entertainment company worth $19 billion. The cable channels, which would be the new company’s biggest cash machine, give the studio an outlet for its movies and TV shows that could help the studio squeeze more value from those titles.

The channels also would create a structure for a family of new networks for Vivendi’s partner, EchoStar. Vivendi plans to invest $1.5 billion in the nation’s second-ranked satellite company for an 11% stake and the ability to launch five channels and interactive television services for its partner’s 6.5 million customers.

Pundits agree that the satellite deal is invaluable now that cable systems have little space left to devote to new channels. But new channels can take years to develop, especially in today’s crowded universe.

“It’s very difficult to come up with winning ideas in a 500-channel environment,” said Fred Dressler, who oversees programming on Time Warner Cable, the nation’s second-largest cable operator. “Most of the most interesting ideas are in sports.”

News Corp., despite its powerful film and television production factory, has struggled since 1993 to make FX a big success in cable programming. After several failed attempts to turn around Fox Family Channel’s ratings decline, News Corp. sold the cable company this year to Disney for a record $2.9 billion.

No one knows how tricky cable programming is more than Diller. USA’s ratings have sagged since he bought the channel in 1998 for a sweetheart price. After last year’s loss of WWF wrestling, USA’s most popular programming, the network fell from first to fifth in key ratings.

Yet Diller managed to sell the network to Vivendi at a handsome premium because of USA’s impressive financial strides. Under Diller’s leadership, USA’s cash flow quadrupled as the network pressed advertisers, cable operators and program suppliers for better rates.

And USA, which owns the rights to the hit “Law & Order” series, figured out a clever way to air the drama on its USA cable channel the same week it appears on NBC.

Short of building new channels from scratch, Diller could buy them. Rainbow Media (which owns Bravo and AMC) and Discovery Communications (with Discovery and Animal Planet) are perhaps the only remaining independents--and become more valuable every year because of the scarcity of established cable channels.

Most experts say internal growth will get Diller only so far, and predict other acquisitions for Vivendi Universal Entertainment.

“This is a very smart reshuffling of assets prior to the media landscape consolidating further,” said Blair Levin, an analyst at Legg Mason. “Diller understood he was in danger of being marginalized and now gets his cake and eats it too.”

Diller has long desired a broadcast network and speculation continues that he will make another run at NBC. But such a deal would cost $30 billion or more because of the soaring values of NBC’s sister CNBC and MSNBC cable channels. And General Electric Corp., NBC’s parent company, has signaled lately that it would rather build on the network than exit the media business.

Though broadcast economics are not nearly as favorable as cable programming, experts agree that a network is a key piece in building a TV franchise. “A network covers a third to two-thirds of the production costs of a prime-time show that you couldn’t create on a cable channel,” Gerbrandt said. “The network is the first link in the economic chain in television programming.”

He said Vivendi’s biggest problem is federal rules that prevent foreign owners from buying U.S. broadcast stations, which tend to have 45% pretax profit margins.

Some analysts say Vivendi could get around that restriction because it has set up the joint entertainment venture as a new company based in the U.S.